Saturday, March 13, 2010

China and gold

I got a kick out of a story earlier this week from Reuters that reported that China had renewed its commitment to the U.S. Treasury market but said it would be wary of substantially boosting its gold holdings.

Uh-huh.

The headline to the story was "China says committed to U.S. debt, wary on gold", and it was the headline that caught everyone's attention.

"It is, in fact, impossible for gold to become a major investment channel for China's foreign exchange reserves. I have 1,000 tonnes now, and even if I doubled that holding, according to current prices, that would be about $30 billion," said Yi Gang, China's chief currency regulator.

The comment caused the price of gold bullion fell about $3 an ounce. The price has come down a further $25 an ounce as the week comes to a close. Analysts contribute most of the drop, however, to unwinding of speculative bets linked to Greece's debt woes rather than disappointment over Yi's remarks.

Does that mean that China isn't buying gold anymore?

As one of the world's largest holders of US Treasury bills - the general estimate is that China owns close to $1 trillion of US Treasury securities - Chinese leaders have become more vocal in expressing their concerns over the United States' fiscal discipline and in calling for an alternative international reserve currency.

Since the outset of 2009, Beijing has taken pains to diversify its monetary risks, which include signing multiple bilateral currency swaps, and pushing for the restructuring of international financial institutions.

And diversifying includes China's actions in gold. In 2009 China reportedly bought 454.1 tons of gold from its domestic market, which is equivalent to nearly 50% of the total purchases of 890 tons of gold made by the world's central banks last year.

Add to this reports from the Guangzhou Daily newspaper that reported in 2008 that China's central bank was considering raising its gold reserve by 4,000 metric tons from the then 600 tons to diversify its forex risks (China's gold reserves currently total 1,054 tonnes, meaning that China is still looking to acquire 3,000 tons to match that 2008 goal).

A China News report last year (2009) cited Ji Xiaonan, the chair of the supervisory board for state-owned companies, who said that "China's gold reserves should reach 6,000 tons in the next three to five years and perhaps 10,000 tons in eight to 10 years".

Do you still think China has lost interest in acquiring gold?

By way of reference, US gold reserves totaled 8,133.5 tons in September 2008, accounting for 76.5% of its total forex reserves. Japan's 765.2 tons accounted for 1.9% of its forex reserves.

The inscrutable Chinese are hardly likely to inform the world that they are on a gold buying spree for fear of sending the gold price through the roof before they can finished their acquisition plans.

And while China is the largest gold producer in the world, with more than 300 tons of gold produced annually and while it is true that they will consume all 300 tons locally, the reality is that this internal production won't come anywhere near achieving China's goals for the acquisition of gold... especially if that goal is 6,000 - 10,000 tons within 10 years.

China increased its gold reserves by 76% in six years (2003) to 1,054 tons in 2009.

That dramatic increase of 76% caught the world completely off guard as those huge gains were garnered under the world's radar screen. It wasn't until it was suddenly announced to the IMF at the beginning of 2009 that anyone realized what China was doing.

In 2007, China surpassed South Africa as the world's largest gold producer, and in 2009 they passed India as the world's largest consumer of gold.

In 2009 China bought nearly 50% of the total gold purchases by central banks in 2009.

The Chinese PR machine tells you that China is "committed to US Treasuries and wary of gold."

So after all this activity, after all these surreptitious moves, after all the hand-wringing over America's finances, after publically stating their goal and objectives regarding gold holdings; China would have you believe they aren't moving out of US Treasuries and are wary of gold.

4 comments:

Gold is tangible, but it's just another faith-based asset unless it's universally used as currency in daily transactions. Or until oil producers will only accept gold as payment.I find human obsession with gold fascinating. I think it's somewhat primal. Can't central banks back their currencies with diamond or platinum? If they can, why don't they? Or do they?If holding gold confers confidence, why all this doom and gloom about the US when its gold reserve is, even at this juncture, eight times that of China's?What is the most valuable asset in countries like Germany and Japan? It's not gold but the ingenuity and productivity of the people. The same can perhaps still be said about the US. These countries will not allow some cavemen to economically dominate them simply because they happen to have gold buried in their backyard. Thus, we are not going back to the gold standard, nor should we. We need to be creative and come up with an honest currency system backed by consensus to reflect productivity that contributes to the survival and well being of the human race.In the long run, the gold bubble will burst. But then, in the long run, we'll all be dead.

That's exactly my point. Gold is only as good as the confidence i.e. faith behind it. For now everyone is so uncertain and skeptical about anything fiat that they're going back to gold for what they perceive as safety. Since enough people, especially those with excess income (i.e. wealth) to store, share the same belief, gold price is rising. The big question is: Is that consensus going to last forever or will people abandon the golden god one day? They may not want to but they may be forced to. Here's my thesis: mismanagement of the state especially in a democracy to a large extent reflects the flaws and weaknesses of the people. Witness the rioting in Greece when the government announced austerity measures that may seem perfectly reasonable and necessary to you and me. Think about all the strikes and union problems we have in Canada, and the sense of entitlement for free health care, education, welfare and this and that. The culture of entitlement especially in Western democracies have become so pervasive that the people as an aggregate will not have the discipline nor integrity to live within their collective means. The fiat currency show will go on because to the majority of the people in the world who are not wealthy, it must. Geopolitically speaking, I do not see any single nation or region that is "clean" enough from this problem and also powerful enough to convince or force other nations to adopt an honest currency system such as that backed by gold. Everybody has an incentive, perhaps even a need, to cheat and will continue to do so. At some point, the values that gold represents such as honesty and certainty will be rendered moot.

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